ENB - Enbridge: A Top-Rated 7.3% Yield For Income Investors

2024-01-03 10:23:38 ET

Summary

• Enbridge is a well-run midstream energy business with significant energy assets in the US and Canada.
• The company's strong financial framework for FY 2024 implies ~4.5% Y/Y adjusted EBITDA growth.
• Enbridge has consistently delivered growth in EBITDA and distributable cash flow, with predictable cash flow due to take-or-pay contracts.
• The coverage ratio suggests that the dividend will continue to grow in FY 2024.

Enbridge (ENB) is a well-run midstream energy business headquartered in Canada with considerable natural gas assets in North America. Enbridge submitted a strong financial framework for FY 2024 in the fourth quarter that strongly suggests that the midstream firm will be able to raise its quarterly dividend this year by 4-5%. While shares are not a complete bargain based on EV/EBITDA, I believe they continue to represent strong income value for investors in FY 2024 and in the years to come!

Previous rating

I recommended Enbridge in September to income investors - This 7.6% Midstream Yield Has Potential - because shares of the midstream company at the time went through a prolonged period of share price weakness which created a unique investment opportunity at the time. Shares of Enbridge have revalued higher in the last two months, but are still a strong buy, in my opinion, due to the company's growth forecast for FY 2024. Since the integration of the company's most recent acquisitions is set to boost the midstream firm's EBITDA outlook for FY 2024, I believe income investors are looking at yet another year of solid dividend growth.

Strong financial execution over time

Enbridge is focused on liquids and natural gas pipelines, which are the two largest segments for the midstream firm. With a market cap of more than $76B, the midstream firm plays a critical role in North American energy infrastructure and is responsible for ensuring that producers can transport their energy raw materials to end consumers.

Enbridge has consistently delivered growth in EBITDA and distributable cash flow since 2006. The company's consistent growth in the last decade is supported by the fact that the midstream sector, as opposed to the producer business, has highly predictable cash flows. In the midstream industry, it is a typical convention to enter into take-or-pay customer contracts for the transport of energy raw materials which means the customer either has to accept the delivery of a predetermined quantity or pay a fee. This shifts all the transaction risk to Enbridge's customers and translates into a high degree of cash flow predictability.

Liquids pipelines accounted for more than half, 58%, of the company's FY 2023 YTD adjusted EBITDA (January through September) with gas transmission and midstream assets accounting for 27% of earnings before interest, taxes and depreciation.

The good news for investors is that Enbridge offers an extremely solid 7.3% yield that remained well-supported with cash flow throughout the year, a fact that I don't see changing any time soon.

In the first nine months of FY 2023, Enbridge generated a ton of distributable cash flow, a significant percentage of which was returned to shareholders. January through September, Enbridge earned $8.5B in distributable cash flow, showing 3% year-over-year growth. During this time, Enbridge also raised its dividend by 3%.

In the first nine months of the 2023 fiscal year, Enbridge distributed $2.01 per share in dividends, which calculates to a coverage ratio of 209%. This coverage ratio ensures that Enbridge can easily afford to raise its dividend in FY 2024 and at the same time, the midstream firm has enough cash to invest in its business and potentially do more acquisitions this year as well.

Strong financial framework for FY 2024

Enbridge continues to expect strong performance in all of its businesses in FY 2024, especially in the liquids pipelines and gas transmission/midstream segments. In total, Enbridge projects $16.6-17.2B in adjusted EBITDA as well as $11.0-11.8B in distributable cash flow. Broken down to the per-unit level, dividend investors can expect Enbridge to earn somewhere between $5.40-5.80 per unit which, at the mid-point, implies approximately 3% Y/Y growth (based on preliminary expectations for FY 2023 distributable cash flow).

Enbridge's guidance implies approximately 4.5% year-over-year EBITDA growth and assumes that Enbridge's earlier announced gas acquisitions close this year. Enbridge disclosed that it acquired three utilities for $14B in September, and the acquisitions are expected to be accretive to distributable cash flow.

Enbridge's valuation

Enbridge is not the cheapest midstream firm, largely because investors value companies that produce strong and predictable financial results. The firm is therefore trading at a premium to its U.S. rivals in the midstream business, and it is significantly larger by enterprise value as well. Shares of Enbridge are valued at 11.4X enterprise-value-to-EBITDA, which is the valuation ratio I tend to use for capital-intensive midstream companies. Enterprise Products Partners (EPD) and Kinder Morgan (KMI) both trade at EV-to-EBITDA ratios of about 9.4X, so income investors definitely pay a premium here.

Risks for Enbridge

There are two commercial risks that I see with Enbridge in 2024 and beyond. One, the midstream firm could be exposed to adverse regulation in the fossil fuel industry as government agencies prefer the industry to transition to green energy sources. Two, the company may see slower dividend growth in the future if expansion projects are curtailed.

Final thoughts

Enbridge is a well-run, growing midstream energy company that has considerable energy assets in Canada and the U.S., as well as additional offshore wind assets in Europe. The company is projecting more than 4% year over growth, at the mid-point, in its vital adjusted EBITDA measure in FY 2024 and investors can expect Enbridge to continue to raise its dividend as well. According to Enbridge's financial framework for FY 2024, the midstream company projects continual growth in its two core businesses, liquids pipelines and gas transmission and midstream assets. Shares are not the cheapest in the midstream segment, but investors who want to sleep well and not worry about the stability of the 7.3% dividend yield, may be fine with paying a premium!

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